Poof IPO Goes Up in Smoke

They call it a "poof IPO." And it works like this: in one magical moment, you and three, four, or more companies come together to form one big, happy public company. It's a roll-up and public offering wrapped up into one. "You're all independents until the IPO, and then -- poof! -- you become one," explains Dave Reim, the 36-year-old founder and president of SimStar Digital Media, a $2.9-million provider of E-business services to the pharmaceutical industry, in Princeton, N.J.

Reim figured his little company had nothing to lose and everything to gain by participating in a poof IPO, although that financial arrangement is still considered unconventional. It all began in February 1998, when Reim received an invitation from Capstone Partners, a boutique private-equity firm in New York City that specializes in poof IPOs and roll-ups.

Like a promoter putting together a new rock band, Capstone invited Reim to "audition" for the group. Capstone had already corralled four software companies that worked in the medical industry. Thanks to its Internet experience, SimStar struck a chord. So Reim was in, and the adventure began. By May 1998 five letters of intent sat on the table.

SimStar, the smallest and youngest entrant at just five years old, was clearly lucky to be in such company. The other four participants were older, larger, and more experienced. The group posted combined revenues of $60 million. Alone, SimStar would have been hard-pressed to get institutional-investor attention. With the others, the company was suddenly part of an offering valued at $270 million and floated by Lehman Brothers.

In giddy disbelief Reim sat in on meetings with Capstone. While the nine other company founders negotiated, he took it all in. "I benefited by surfing behind them," he says. But he was also a little skeptical, and, as it turned out, rightly so. Most of the companies, he observed, were barely acquainted with one another. SimStar had a strategic relationship with the largest company, he says, but no prior experience with the other three.

The preposterousness of five companies getting hitched without a proper courtship wasn't lost on Reim. He kept the pending deal under wraps. He issued no stock options or press releases, revealing the plan to only his wife and chief financial officer.

Nevertheless, the IPO continued to move forward. In the summer of '98 the auditors, KPMG, moved in. By the second week of August, the five companies were ready to file a single S-1 registration form with the SEC. And Reim was just a week away from breaking the news to everyone at his company. About to become a millionaire many times over, he thought about how he'd share the wealth with his family and employees. "Once the S-1 was written up, I started spending the money in my head," he admits. "I thought we'd worked out all the kinks."

And then the bottom fell out of the stock market. The word on the street was no more IPOs in 1998. The deal was off. Then on again: in October the IPO window appeared to open for Internet companies and those doing business in the medical industry. There was talk of doing the offering in mid-1999. But by the end of '98, the roll-up was unraveling once again. In December the largest company pulled out altogether after deciding the whole thing was too risky. The deal was dead for good.

Reim was left to contemplate how SimStar could have come so close to being a public company and yet be so far away. On the day the poof IPO went up in smoke, the 10 executives exchanged a consoling round of E-mail. One likened the experience to that of a group of fraternity brothers watching their frat house burn down.

For a little while anyway, Reim had been part of an exclusive club. Few companies get as far as filing the S-1, never mind rubbing shoulders with Lehman Brothers -- particularly five-year-old companies with less than $3 million in sales. "We were a pimple on the financial landscape," Reim concedes. "We never could have swung this deal on our own."

Today he's feeling fortunate for the experience and infinitely wiser about his options. "In a go-go economy," he notes, "you're going to get approached a lot" by a variety of deal makers. His advice: "Stay focused on your own business. Don't spend too much management time on the process."

Knowing how fragile both IPOs and roll-ups can be, how does Reim feel? Surprisingly upbeat. He says he'd still consider another poof IPO, because of the power in numbers. "You had 10 founders who collectively shared the workload. I would've shuddered to have done that alone." The founders also shared the expense -- and Reim considers the $30,000 he kicked in for auditing and legal costs a bargain.

He's even taken to heart some advice that he originally found offensive. He relates that a venture capitalist he met through connections he'd made during the IPO process "told me my [ high] profit margin meant I wasn't committed to the business." Reim has since decided that the fellow had a point, and he's now plowing more of his profits back into marketing, with the goal of making SimStar the clear leader in its niche. The CEO says he's also absorbed valuable lessons about how valuations are calculated, for example, and how to adhere to public accounting standards. He's using his newfound knowledge to increase SimStar's value, regardless of whether the company goes public, merges, or stays private.

"There were a lot of unexpected bonuses from the process," concludes Reim. His M.B.A. from Wharton pales next to the education he has won firsthand, he says. "This is the best case study I've ever been involved in. It was nine months. And it was real life."